An analysis of the relation between return and beta for portfolios of Turkish equities

Abstract

The present study investigates the possible existence of a systematic relation between beta and excess-return for portfolios of Turkish equities. In the process, no systematic relation is found between beta and realized portfolio excess-return, in an unconditional sense. However, the study does find a systematic relation between realized portfolio excess-return and beta, conditioned upon the sign of realized market-portfolio excess-return. Moreover, an even stronger systematic relation is found between realized portfolio excess-return and beta, conditioned not only upon the sign, but also the magnitude of realized market-portfolio excess-return, with the estimation of the security market plane (SMP) model. The study has several useful implications for portfolio managers. Firstly, the empirical findings strongly suggest that employment of the SMP model may generate more accurate estimations of expected asset-return, compared with straightforward application of the capital asset pricing model (CAPM). Enhanced accuracy of expected asset-return, in turn, may lead to more accurate appraisals of asset value, resulting in more profitable investment opportunities and decisions. Employment of the SMP model may thus lead to enhanced efficient-portfolio development, by leading to construction of portfolios with greater expected-return, for a given class of quantifiable-risk.

Keywords:

• portfolio excess-return
• market excess-return
• beta
• CAPM
• security market plane (SMP)
• efficient-portfolio-development

JEL classifications:

• G-Financial Economics
• G1-General Financial Markets
• G12-Asset Pricing

Public Interest Statement

The present study is concerned with the process of estimating an asset’s expected monetary return. For example, investors are concerned with estimating the expected percentage return of financial assets, such as a share of common stock, which represents part-ownership of a firm. An asset’s true (or intrinsic) value depends in part on its expected monetary return. Therefore, the more accurate the estimation of an asset’s expected percentage return, the more accurate will be the appraisal of the asset’s true value. In turn, more accurate appraisals of asset intrinsic value may lead to more profitable investment opportunities and decisions.

Different models may be employed to estimate an asset’s expected return. The current study presents empirical evidence strongly suggesting that employment of the security market plane (SMP) model may lead to more accurate estimation of an asset’s expected percentage return, compared to straightforward application of the capital asset pricing model (CAPM).

Notes

1. See Bollen (2010, p. 1233) for a diagrammatical representation of the theoretical SMP.

2. For the full derivation of the empirical SMP model from the SLB market model (see Bollen, 2010, p. 1233).

3. Thus, the overall data-set begins with the year 2000. While there is stock price data for the years before 2000, it is not possible to calculate excess returns for these years without the necessary data for the Turkish treasury-bill rates, which is not available prior to May 1999. Therefore, the necessary data-set required to estimate and test the various models is not available for any test period with a beginning date preceding 2003.

4. This is the broadest possible index, thus ensuring the most robust empirical results.

5. In the estimation of Equation 2, and in the various other model-estimations of the current study, the risk-free rate of return (R_ft) denominated in the domestic currency is based on the monthly return of the 3-month or 6-month Turkish Treasury bill.

6. This diagram is very similar to the one constructed by the Bollen (2010) study with Australian data. See Figure 5 in Bollen (2010, p. 1236).

7. The approach employed in the Fama and French (1992) and Pettengill et al. (1995) studies is to run monthly cross-sectional regressions, and then to calculate the average of cross-sectional regression-coefficients over time. The pooling of time-series with cross-sectional data is a well-established, alternative method to determine if a significant relation among variables exists; and is also employed by Bollen (2010).

Additional information

Funding

Funding. The authors received no direct funding for this research.

Notes on contributors

Salvatore J. Terregrossa

Salvatore J. Terregrossa holds a PhD in Economics and Finance from Binghamton University, NY, US, and currently teaches Economics at Istanbul Aydin University. Salvatore has published articles in SSCI and Econlit-indexed journals, regarding empirical studies in combination forecasting; CAPM and beta; international finance and asset pricing. The research reported in this paper relates to the wider issue regarding factors that influence or determine expected and realized excess-return of Turkish equities, and portfolios of Turkish equities. Related potential future projects include the identification and modeling of the various factors that influence the excess-return of Turkish equities.

Veysel Eraslan

Veysel Eraslan is an analyst at Borsa Istanbul, Equity Department, and is a PhD candidate at Galtasaray University, Istanbul. Veysel has published articles in SSCI and Econlit-indexed journals, regarding studies in market microstructure, international finance, and asset pricing.